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Lessons From the Donald

NBC's Donald Trump reality show offers up some entertainment and good business lessons.

NBC's newest offering to the reality TV arena, The Apprentice, offers up the usual dose of drama, competition, eye-popping prizes, and a surprising side order: some valuable investing lessons.

Though I usually advise against getting investment advice from TV, the debut of The Apprentice provided an entertaining simulated scenario of the human factors that can make a company wildly successful -- or a tragic failure. (If you're looking to get up to speed on the down-and-dirty details of the first episode and the 16 candidates vying for a six-figure job with Donald Trump, check out fellow Fool Dayana Yochim's great overview of the show.)

The crux of the first episode was the challenge -- posed by multi-billionaire, Fool foe Trump (the Rule Breaker Portfolio shorted his company in 1997) -- for the contestants to sell lemonade and bank the highest profit. It was ingenious. Price and product differentiation -- factors that can make or break a product -- were key to the two teams' (divvied up men on one side, women on the other) success. And don't be misled by the seemingly silly challenge to peddle lemonade. Price and product differentiation are why Coca-Cola(NYSE:KO) has a $121 billion market capitalization from selling sugar water, and why McDonald's(NYSE:MCD) has a $32 billion market cap from selling ground beef.

How does it work? Let's start from the ground up.

Selling a commodity -- and sexThis first challenge boiled down to selling a commodity product -- lemonade -- on a street corner. Neither team had an advantage with its core product. No one had any secret recipes. Yet, the women, after much bickering, confusion, and poor navigational skills, finally figured out that they could sell their lemonade with a twist.

A little flirting was involved -- call it the sex appeal factor. Though the men were clearly more organized, better prepared, and more sanitary -- it looked like the women used a mop bucket on the road to mix the lemonade in -- the men had scant chance of winning. The women successfully branded and differentiated their commodity product, a masterful move on their part. Not that I didn't feel a little prescient. Upon hearing about the lemonade challenge I, like most other viewers I suspect, quickly said, "The guys have no chance. Sex sells, and these women are attractive."

Nonetheless, short skirts, a flickered smile, and an innocent smooch or not, the women successfully marketed their lemonade -- with one of the oldest tricks in the book. A good analogy is Gillette(NYSE:G). Gillette sells commodity products -- razors and blades -- but through its branding and research and development efforts it has been able to stay ahead of its competitors. That is the type of company investors fall over backward to own. As an investor, I want to own companies that do not compete on price. Ultimately, such companies have better cash flow and return on invested capital (ROIC).

Though the men may have been underdogs, one of them showed some forethought and did his best to compete. Sam Solovey displayed the type of management skills investors should seek. He tried to match his competitor's product by recruiting women to sell his team's lemonade. And when that failed, Sam took it a step further: He began to explore charging a huge premium for his product. While his effort to sell one glass of lemonade for $1,000 was a bit unrealistic, it was a maverick move worth the risk. Maybe going for $20 with the promise of being on NBC would have been more achievable.

Or, in a pitch to capitalize on a different gender-based strategy, Sam could have tried wooing traders at the close of the New York Stock Exchange to make a go at beating the women's team. My wife felt that strategy would have yielded tremendous results. Either way, Sam was making the right moves. He wasn't trying to just match his competitor's product. He was trying to elevate his lemonade -- to luxury status.

Start-up capital -- the biggest challengeThe lemonade challenge, however, is easy compared to one part of business the game left out: raising money to get started. The contestants have no idea how good they had it. If Trump was serious about finding a president for one of his divisions at Trump Hotels and Casino Resorts(NYSE:DJT), he would have forced the teams to actually raise the start-up capital, instead of handing each $250. Anyone who has ever started a successful business knows that access to capital is often the hardest part.

Kudos to the men's team, and Kwame, in particular, who managed to secure a cart, bucket, and cups free-of-charge by sweet-talking a corner-store manager. Kwame single-handedly managed to decrease his capital outlays to next to nil -- even if he cannot be forgiven for selecting such a terrible location. When you research stocks, you should examine a company's access to the capital markets. Starting with the balance sheet, look to see if the company is saddled with excessive debt. I stay away from companies with over 50% debt to shareholder's equity. Some debt can be good, but, all things being equal, I would rather own a company with 25% debt to shareholder equity versus one with 80%.

Case in point: I would much rather own Microsoft(NASDAQ:MSFT) (actually I do own Microsoft in my fund), which generates over $1 billion free cash flow a month, than Lucent Technologies(NYSE:LU), which over the past years has had to issue stock to fund operations (for more, the Fool did an excellent analysis of Lucent's failings a while back).

Leadership: the intangiblesAnother interesting aspect of The Apprentice was the role of leadership. In corporate America, the best CEOs are not team players. They listen to their subordinates' opinions, but then they make the decisions. Good managers exhibit no uncertainty and do not second-guess themselves. They live by the sword and they die by the sword.

I thought it was interesting that even Carolyn Kepcher, Trump's chief operating officer, did not realize the genius behind Sam's actions when he tried to sell the lemonade for $1,000. She chided him for wasting time and not selling lemonade when she should realize that the Trump organization itself works very hard at selling commodity products (apartments) at premium prices. Evaluating quality management is tough, but studying what they say and write (in financial filings), investors can make informed decisions. Instead of almost getting the axe, Sam should have been lauded.

The show drew 27.8 million viewers last week -- a number that's likely to pick up as NBC reruns the first episode tonight and airs a new one Thursday. With new, real-world business challenges in the offing, The Apprentice could prove to be more educational than meets the eye. Besides, when else can you get a chance to gawk at the lavish life of Donald Trump?

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Paul N. Jaber, Jr., CFA, is the portfolio manager of the Perpetual Value Fund, an intrinsic value hedge fund. The fund's portfolio is highly concentrated with quality companies that should achieve a high return on capital and strong free cash flow. His fund was long Microsoft at the time of this article. Under no circumstances does this information represent a recommendation to buy, sell, or hold any security. Mr. Jaber appreciates your feedback at pjaber@perpetualvalue.com. The Motley Fool is investors writing for investors.